memorandum opinion-1...arc’s motion for summary judgment and sullivan’s cross motion for summary...

ArbitrationCategorical harmCollateral estoppelDamagesIssue preclusionMalicePunitive damagesRes judicataSummary judgmentUnclean handsWillful injuryFRCP 56(a)11 USC § 101(12)11 USC § 523(a)(6)

Bergemann v. Brion & Higgins Adv. # 10-3281-tmb (lead case)(In re Clay Willard Brion, III, Case # 10-37631-tmb7) # 10-3282-tmb(In re Daniel Richard Higgins, Case # 10-37632-rld7)

June 22, 2011 TMB 2011 WL _______

Defendants filed separate Chapter 7 petitions. Plaintiff filed separate adversaryproceedings against each Defendant seeking a determination that damages awarded in a priorarbitration, later confirmed by a U.S. District Court (for the District of Oregon) judgment, wereexcepted from discharge under §§ 523(a)(4) and (6). Plaintiff also sought a declaratory judgmentthat injunctive relief awarded in the arbitration could not be discharged. Plaintiff moved forsummary judgement in each adversary, which were then consolidated for all purposes. Defendants cross-moved. A similar non-dischargeability action was filed against a thirddefendant in the arbitration, who had filed Chapter 7 in the United States Bankruptcy Court forthe Southern District of Alabama. There, in a written opinion and order, the AlabamaBankruptcy Court ruled in Plaintiff’s favor on summary judgment. The Court in deciding thecross motions incorporated the Alabama Bankruptcy Court’s findings of fact.

Defendants were former employees of Plaintiff. In the arbitration, Plaintiff’s main

contention was that Defendants formed and operated a company to compete with Plaintiff, whilestill in Plaintiff’s employ. Plaintiff also alleged Defendants used certain of Plaintiff’sconfidential and proprietary information. The arbitrator issued interim and supplemental letteropinions and incorporated same in an arbitration award, wherein Plaintiff prevailed on claimsfor, amongst others, breach of fiduciary duty, intentional inference with contract, and intentionalinterference with prospective economic advantage. Plaintiff also prevailed on all of Defendants’affirmative defenses. Identical damages were awarded on each of Plaintiff’s successful claimsconsisting of half of the compensation and benefits received by each Defendant whilewrongfully competing with Plaintiff. Despite request, no punitive damages were awarded.

In the instant § 523 action, as to the declaratory relief sought, Defendants conceded

Plaintiff could enforce the injunctive relief specified in the award/judgment after Defendants’general discharge.

As to the dischargeability issues, both Plaintiff and Defendant relied on the preclusiveeffect of the arbitration award/judgment. The Court held that because the judgment was enteredin federal court, the federal law of issue preclusion controlled. It also held that arbitration awardssuch as the one at bar were entitled to preclusive effect. The Court then examined the elementsof issue preclusion, in particular whether the identical issues raised in Plaintiff’s § 523 claimswere actually litigated and necessarily decided in the arbitration.

On the § 523(a)(6) claim the Court held the arbitration award was preclusive in Plaintiff’sfavor. It found the arbitrator’s findings and conclusions that Defendants intentionally interferedwith contract and prospective economic advantage as well as intentionally breached theirfiduciary duty by usurping a corporate opportunity, were sufficient to meet § 523(a)(6)’s“willful” standard. The Court discussed the doctrine of “categorical harm,” where intent toinjure is implied from certain intentionally wrongful conduct. The Court also found thearbitration award preclusive in Plaintiff’s favor as to § 523(a)(6)’s “malicious injury”requirement. In contrast, it found the arbitrator’s refusal to award punitive damages was notpreclusive in Defendants’ favor on the “malice” element, noting that a punitive damages awardunder Oregon law is discretionary so the failure to award same could not have been “necessary”to a “no malice” finding. Further Oregon law had a higher standard of proof on malice than§ 523(a)(6) required. The Court held the arbitration damages (half salary while wrongfullycompeting) sufficiently evidenced a “debt for” Defendants’ willful and malicious injury.

As to Defendants’ affirmative defenses asserted in the § 523 action, the Court held thatseveral were attempted collateral attacks on the arbitration award/judgment and were thus barredby the doctrine of res judicata. It further held that the arbitrator’s refusal, despite request, tomake a determination as to the award’s dischargeability in bankruptcy was not preclusive inDefendants’ favor, as the arbitrator made a specific finding that dischargeability was not beforehim. Finally, the Court held that although an “unclean hands” defense was in general available indischargeability proceedings, it did not apply in the case at bar because the conduct alleged toform the basis of the defense had no specific nexus to the conduct of which Plaintiff complained.

Because Plaintiff’s motion was granted under § 523(a)(6), the Court did not take up the §523(a)(4) claim.

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UNITED STATES BANKRUPTCY COURT

FOR THE DISTRICT OF OREGON

In re

CLAY WILLARD BRION, III

Debtor.

DANIEL RICHARD HIGGINS,

Debtor.

CLYDE BERGEMANN, INC.,

Plaintiff,

v.

CLAY WILLARD BRION, III andDANIEL RICHARD HIGGINS,

Defendants.


Plaintiff,

v.

DANIEL RICHARD HIGGINS,

Defendant.

))))))))))))))))))))))))))))))

Bankruptcy CaseNo. 10-37631-tmb7

Bankruptcy CaseNo. 10-37632-rld7

Adversary ProceedingNo. 10-3281-tmb

Adversary ProceedingNo. 10-3282-tmb

MEMORANDUM OPINION

/ / /

MEMORANDUM OPINION-1

Below is an Opinion of the Court.

_____________________________TRISH M. BROWN

U.S. Bankruptcy Judge

U.S. BANKRUPTCY COURTDISTRICT OF OREGON

F I L E DJune 22, 2011

Clerk, U.S. Bankruptcy Court

Case 10-03281-tmb Doc 49 Filed 06/22/11

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This matter comes before the court on the Parties’ cross motions for summary judgment. Plaintiff

was represented by David W. Hercher. Defendants were represented by S. Ward Greene.

PROCEDURAL BACKGROUND

Defendants Clay Brion III and Daniel Higgins (Defendants) filed Chapter 7 petitions on August 10,

2010. On September 30, 2010, Plaintiff Clyde Bergemann, Inc., dba Anthony-Ross Company (“ARC”) filed

separate adversary proceedings on identical theories based on common facts against each Defendant seeking

a determination that damages awarded in a prior arbitration were excepted from discharge under 11 U.S.C.

§ 5231 (First Claim for Relief). ARC also sought a declaratory judgment that injunctive relief awarded in

the arbitration could not be discharged (Second Claim for Relief). Defendants answered denying the

material allegations and asserting six affirmative defenses each.

Plaintiff moved for summary judgment in each adversary. The adversaries were consolidated for all

purposes by amended order entered December 10, 2010. Defendants opposed Plaintiff’s motions and cross-

moved for summary judgment. Plaintiff in turn opposed the cross-motions and objected to Defendants’

declarations tendered in opposition to its motions.

After oral argument on March 9, 2011, I ruled on a portion of the evidentiary objections. I then took

the motions and the remaining evidentiary objections under advisement. At the parties’ request, I delayed my

decision on the motions pending a settlement conference. That conference was unsuccessful. The motions

were put back on the docket and are now ripe for decision.

A similar non-dischargeability action was filed against a third defendant, Eugene Sullivan

(“Sullivan”), in the United States Bankruptcy Court for the Southern District of Alabama, Case No. 10-

04384-WSS, Adv. Proc. No. 10-00094. On May 20, 2011, the Honorable William S. Shulman ruled on

ARC’s motion for summary judgment and Sullivan’s cross motion for summary judgment in favor of ARC

(Order on Cross-Mot. for Summ. J., Doc. 55).

1 Unless otherwise indicated, all chapter, section and rule references are to the Bankruptcy Code, 11 U.S.C. §101-1532, and to the Federal Rules of Bankruptcy Procedure (“FRBP”), Rules 1001-9037.



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In reaching my decision, I have carefully reviewed the motions, documents in support thereof and

opposition thereto, the pleadings, and other submissions in the file. I also have read applicable legal

authorities, both as cited to me and as located through my own research. I have considered carefully the oral

arguments presented and have read counsels’ submissions in detail. The following findings of fact and legal

conclusions constitute the court's findings under Federal Rule of Civil Procedure (“FRCP”) 52(a), applicable

in this proceeding under FRBP 7052. To the extent any findings of fact constitute conclusions of law, they

are adopted as such. To the extent that any of the conclusions of law constitute findings of fact, they are

adopted as such.

FACTS

Judge Shulman’s Findings of Fact in his Order on Cross Motions for Summary Judgment are

incorporated herein. A copy of his opinion is attached to this Memorandum Opinion.

I supplement the Findings of Fact as follows:

The references to Sullivan in the first full paragraph on page 2 of Judge Shulman’s Order include

references to the present Defendants Brion and Higgins.

The Arbitration Award against Clay Brion III was $131,891.89 and the Award against Daniel

Higgins was $142,426.34.

LEGAL ANALYSIS

1. Summary Judgment Standards

On a motion for summary judgment, the moving party has the burden to show there is no genuine

issue as to any material fact and that it is entitled to judgment as a matter of law. FRCP 56(a) (made

applicable by FRBP 7056). Material facts are such facts as may affect the outcome of the case. Anderson v.

Liberty Lobby, Inc., 477 U.S. 242, 248 (1986). “A dispute about a material fact is genuine ‘if the evidence is

such that a reasonable jury could return a verdict for the nonmoving party.’” FreecycleSunnyvale v.

Freecycle Network, 626 F.3d 509, 514 (9th Cir. 2010) (quoting Anderson, 477 U.S. at 248.

With regard to its own claims or defenses, (i.e. those elements for which the moving party bears the

burden of proof at trial), the movant must support its motion with evidence that would entitle it to a directed



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verdict if not controverted at trial. C.A.R. Transp. Brokerage Co., Inc. v. Darden Restaurants, Inc., 213 F.3d

474, 480 (9th Cir. 2000). If the movant makes the requisite affirmative showing, the non-movant may not

simply rely on allegations and denials in its own pleadings. FRCP 56(c). Instead, the non-moving party

must produce significant probative evidence (or point to such evidence already before the court), showing

specific facts which demonstrate the existence of a genuine issue for trial. Intel Corp. v. Hartford Accident &

Indem. Co., 952 F.2d 1551, 1558 (9th Cir. 1991) (internal citation omitted).

All reasonable doubts as to the existence of genuine issues of material fact should be resolved against

the moving party. Crosswhite v. Jumpking, Inc., 411 F.Supp.2d 1228, 1230 (D. Or. 2006) and all rational or

reasonable inferences drawn from the underlying facts must be viewed in the light most favorable to the non-

moving party. T.W. Electrical Service, Inc. v. Pacific Elec. Contractors Ass’n, 809 F.2d 626, 630 (9th Cir.

1987).

2. Claim for Declaratory Judgment

Plaintiff’s Second Claim for Relief seeks a declaration that it may enforce the injunctive relief

specified in the Judgment entered on August 11, 2010, in the United States District Court for the District of

Oregon (“Judgment”) after Defendants’ general discharges in these cases. Defendants conceded this issue.

Plaintiff is thus entitled to summary judgment declaring that its right to enforce the injunction, including the

right to seek monetary sanctions based on post-petition breach thereof, against both Defendants is not a

claim subject to discharge.

3. Issue Preclusion

In their motions and cross motions on the § 523(a) claims both parties contend that the elements

necessary to grant summary judgment in their favor were conclusively established in the underlying

litigation.

Issue preclusion, sometimes referred to as collateral estoppel, is a viable tool in § 523 litigation.

Grogan v. Garner, 498 U.S. 279 (1991). Because the Judgment was entered in federal court, the federal law



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of issue preclusion controls. McQuillion v. Schwarzennegger, 369 F.3d 1091, 1096 (9th Cir. 2004).

Although the federal elements of issue preclusion have been stated various ways, the Bankruptcy Appellate

Panel for the Ninth Circuit succinctly boiled them down to the following:

1) The issue sought to be precluded from relitigation must be identical to thatdecided in a former proceeding;

2) The issue must have been actually litigated in the former proceeding;

3) It must have been necessarily decided in the former proceeding;

4) The decision in the former proceeding must be final and on the merits; and

5) The party against whom preclusion is sought must be the same as, or inprivity with, the party to the former proceeding.

Kelly v. Okoye (In re Kelly), 182 B.R. 255, 258 (9th Cir. BAP 1995). Arbitrations can meet this criteria.

Because they provide “an opportunity for presentation of evidence, the determination of issues in an

arbitration proceeding should generally be treated as conclusive in subsequent proceedings, just as

determinations of a court would be treated.” Greenblatt v. Drexel Burnham Lambert, Inc., 763 F.2d 1352,

1360 (11th Cir. 1985) (citing Restatement (Second) of Judgments § 84(3) and comment c (1982)).

“The party asserting preclusion bears the burden of showing with clarity and certainty what was

determined by the prior judgment.” Clark v. Bear Sterns & Co., Inc., 966 F.2d 1318, 1321 (9th Cir. 1992).

“Any reasonable doubt as to what was decided by a prior judgment should be resolved against allowing the

collateral estoppel effect.” Kelly, 182 B.R. at 258 (citations omitted).

There is no dispute the Judgment is final and on the merits and the same parties are involved. The

issue, therefore, is whether the identical issues raised in Plaintiff’s § 523(a) claims were actually litigated and

“necessarily decided” in the arbitration.

4. Plaintiff’s Claims of Non-Dischargeability

Plaintiff seeks to except the Judgment from discharge under §§ 523(a)(4) and (6).



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"A primary objective of the Bankruptcy Code is to provide a fresh start for debtorsoverburdened by debts they cannot pay. Accordingly, I start from the proposition that thedischarge exception provisions of the Bankruptcy Code are interpreted narrowly in favor ofdebtors.

The party seeking to except its claim from the debtor's discharge bears the burden of proof toestablish that its claim is nondischargeable . . . the burden of proof standard for actions toexcept a creditor's claim from the debtor's discharge is preponderance of the evidence. Inother words, in spite of the Bankruptcy Code's policy bias in favor of the debtor's discharge, aparty seeking to except an obligation from discharge under § 523(a) will prevail if theevidence establishes that it is more likely than not that the creditor's cause of action isjustified."

Vans Inc. v. Rosendahl (In re Rosendahl), 307 B.R. 199, 214 (Bankr. D. Or. 2004) (citations omitted).

a. Plaintiff’s Claims Under Section 523(a)(6)

Section 523(a)(6) excepts from discharge debts “for willful and malicious injury by the debtor to

another entity or to the property of another entity.”

“The malicious injury requirement is separate from the willful injury requirement. A ‘willful’injury is a ‘deliberate or intentional injury, not merely a deliberate or intentional act that leadsto injury.’ A ‘malicious’ injury involves (1) a wrongful act, (2) done intentionally, (3) whichnecessarily causes injury, and (4) is done without just cause or excuse.”

Barboza v. New Form, Inc. (In re Barboza), 545 F.3d 702, 706 (9th Cir. 2008) (citations omitted) (emphasis

in original); see also Ormsby v. First American Title Co. (In re Ormsby), 591 F.3d 1199, 1206 (9th Cir. 2010).

(1) Was there Sufficient Evidence to Establish Willfulness?

In order to meet the “willful” prong, the court must find a "deliberate or intentional injury, not

merely a deliberate or intentional act that leads to injury." Kawaauhau v. Geiger, 523 U.S. 57, 61 (1998)

(emphasis in original). Debts or losses that arise from injury inflicted recklessly or negligently do not give

rise to liability. Id. A debtor must have a subjective motive to inflict injury or believe that injury is

substantially certain to result from his own conduct. Ormsby, 591 F.3d at 1206. It is not sufficient that

viewed objectively, there was a substantial certainty that the debtor's conduct would cause harm. Carrillo v.

Su (In re Su), 290 F.3d 1140 (9th Cir. 2002). In making a § 523(a)(6) determination, the debtor is charged

with the natural consequences of his actions. Ormsby, 591 F.3d at 1206.



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To establish willfulness, Plaintiff relies mainly on case law supporting the doctrine of “categorical

harm.” That is, if a defendant intentionally engages in certain wrongful conduct, intent to harm the object of

such conduct is necessarily implied. See Smith v. Entrepreneur Media, Inc. (In re Smith), 2009 WL 6058677,

*9-10 (9th Cir. BAP 2009)2 (intentional infringement of trademark under federal law was categorically

harmful); Star’s Edge Inc. v. Braun (In re Braun), 327 B.R. 447, 450-51 (Bankr. N.D. Cal. 2005) (intentional

infringement of federal copyright laws was categorically harmful).

In Braun, the court explained the doctrine as follows:

“Geiger holds that a debt attributable to an injury that results from recklessnessor negligence is dischargeable even if the act that caused the injury wasperformed intentionally. Su holds that the court must apply either a subjectivetest when determining whether an act was performed with the intent to injure, ordetermine with substantial certainty that injury would occur. Geiger and Su bothinvolve conduct that can result in more than one outcome. Geiger determinesthe dischargeability of a debt incurred in a medical malpractice judgment whileSu involves a debt for a personal injury resulting from an auto accident.Performing a medical procedure and driving an automobile are activities thatcan be executed intentionally, but in a manner that is reckless or negligent withregard to the outcome. On the other hand, activities such as filing a frivolouslawsuit (as the debtor did in Zelis ) or infringing a copyright (as Debtor didhere) do not have uncertain or variable outcomes. While a medical procedurecan result in either healing or harm, and a physician may cause harm bynegligence, copyright infringement is a categorically harmful activity. Onecannot commit intentional copyright infringement and, through his negligence,cause financial harm to the copyright holder. Rather, harm necessarily followsfrom the act of infringing regardless of the infringer's state of mind whencreating the infringing material.”

Id. at 450-51.

The arbitrator found for Plaintiff on its claims for interference with contract and interference with

economic advantage as well as its claims for breach of fiduciary duty and misappropriation of trade secrets. A

person cannot interfere with a contract or a prospective economic advantage without causing harm to the

party against whom he interferes. Likewise, one cannot intentionally breach a fiduciary duty by usurping a

corporate opportunity (here, the Jambi contract), without by necessity harming the corporation. See, e.g.,

2 Although Smith has been designated as “Not for Publication,” it may be cited for its persuasive value. FRAP32.1



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Digital Commerce Ltd. v. Sullivan (In re Sullivan), 305 B.R. 809, 822-23 (Bankr. W.D. Mich. 2004)

(usurping a corporate opportunity, even if the specific motivation was not to harm the corporation, is a “zero-

sum game” that is, the usurper can only gain if the corporation loses.) Accordingly, by finding for Plaintiff on

the intentional interference and breach of fiduciary duty issues, the arbitrator necessarily decided that

Defendants acted willfully.

(2) Was there Sufficient Evidence to Establish Malice?

Section 523(a)(6) also requires a finding of “malice.” Malice under § 523(a)(6) does not equate to

“biblical malice,” that is personal hatred, spite or ill will. Thiara v. Spycher Brothers (In re Thiara), 285 B.R.

420, 434, n.15 (9th Cir. BAP 2002). “Malice may be inferred based on the nature of the wrongful act.”

Ormsby, 591 F.3d at 1207, if it is first established the tortious conduct was willful. Id.

Plaintiff contends that the first three elements required for a finding of “malice,” i.e. a wrongful act

done intentionally which necessarily causes harm, are met by the finding that the Defendants intended to

injure Plaintiff. I agree. Accordingly, I must determine whether the Defendants acted without just cause or

excuse. Defendants argue that their motives were not to harm Plaintiff. However, even an arguably benign

motive does not justify or excuse behavior that is otherwise wrongful. Murray v. Bammer (In re Bammer)

131 F.3d 788, 793 (9th Cir. 1997), abrogated in part on other grounds by, Kawaauhau v. Geiger, 523 U.S. 57

(1998). The arbitrator found that Defendants “were motivated to a large degree by personality and business

differences” with Plaintiff’s CEO. However, the arbitrator also recognized that the personality differences

were not an excuse for the Defendants’ conduct. Further, he overruled all of the Defendants’ affirmative

defenses. In interfering with Plaintiff’s contractual and prospective business relationships and in breaching

their fiduciary duties as discussed above, Defendants acted without just cause or excuse. Accordingly, I find

that they acted with the requisite “malice” required to support a finding of nondischargeabilty under

§ 523(a)(6).



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Defendants argue that the Judgment is preclusive in their favor on the issue of malice because the

arbitrator refused to award punitive damages against the Defendants. However, I do not find that fact

determinative on the issue of whether Defendants acted with “malice” within the meaning of § 523(a)(6).

Under Oregon law, punitive damages may be awarded if the defendant “acted with malice or has

shown a reckless and outrageous indifference to a highly unreasonable risk of harm and has acted with a

conscious indifference to the health, safety and welfare of others.” ORS 31.730(1). An award of punitive

damages under Oregon law is discretionary. “[T]he jury has entire discretion to refrain from giving any

punitive damages at all even though all the elements of malicious and damaging misconduct may have been

established.” Van Lom v. Schneiderman, 187 Or. 89, 108 (1949), abrogated on other grounds, Oberg v.

Honda Motor Co., Ltd., 320 Or. 544, 548 (1995) (citations omitted). Further, the standards of proof under

Oregon law and § 523 are different. Oregon law requires “clear and convincing” evidence to award punitive

damages, ORS 31.730(1), while § 523(a)(6) requires merely a preponderance to find “malice.” Grogan, 498

U.S. at 291. When the standard of proof for the judgment sought to be used as preclusive based on a party’s

failure to meet that standard, is higher than the standard in the case in which preclusion is sought, the former

judgment has no preclusive effect. Clark, 966 F.2d at 1322. Accordingly, the fact that the arbitrator declined

to award punitive damages does not mean that he found that Defendants acted without malice.

(3) Did the Damages Result from Defendants’ Conduct?

Defendants contend that regardless of whether the court finds that they acted willfully and

maliciously the debts they owe to Plaintiff are nonetheless dischargeable because they are not damages

suffered by Plaintiff as a result of Defendants’ conduct. I disagree.

The arbitrator awarded judgment in favor of Plaintiff equal to one half of the salary paid to each

Defendant while the Defendant was actively engaged in competing with Plaintiff. Those damages create a

“debt” as defined by § 101(12). In turn, § 523 excepts from discharge “debts for” various proscribed

conduct. That phrase means that the “debt” must only be “the result of,” “with respect to” or “by reason of”

the proscribed conduct. Cohen v. de la Cruz, 523 U.S. 213, 220 (1998). Here, the disgorgement damages



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meet that test. As stated in Smith, 2010 WL 6058677, *11: “[A]ny liability duly imposed as a direct, but-for

result of the defendant’s nondischargeable conduct constitutes a nondischargeable debt, regardless of

whether the liability reflects the actual damages incurred by the plaintiff.” See also, Spring Works, Inc. v.

Sarff (In re Sarff), 242 B.R. 620, 628 (6th Cir. BAP 2000) (disgorgement of compensation for breach of

fiduciary duty sufficiently tied to willful and malicious conduct to constitute injury or damages).

5. Defendants’ Affirmative Defenses.

Defendants have alleged six affirmative defenses. The first, failure to state a claim is without merit.

The second, third, and fourth allege respectively that the arbitrator disregarded the law, abused his authority,

and refused to hear evidence. These affirmative defenses are attempted collateral attacks on the merits of the

Judgment and are barred by the doctrine of res judicata. Orion Tire Corp. v. Goodyear Tire & Rubber Co.,

Inc., 268 F.3d 1133, 1136 (9th Cir. 2001) (“‘[A] judgment merely voidable because based upon an erroneous

view of the law is not open to collateral attack, but can be corrected only by a direct review and not by

bringing another action upon the same cause.”) (quoting Federated Dep’t Stores, Inc. v. Moitie, 542 U.S.

394, 398 (1981) (emphasis in original).

In their fifth affirmative defense, Defendants argue that the arbitrator’s refusal to make a finding that

his award would be nondischargeable in bankruptcy preclusively establishes that the award is dischargeable.

(Defs’ Answer at 4). The arbitrator, however, made clear he would not rule on the dischargeability issue

because that issue was not before him. Accordingly, the arbitrator’s refusal to make a determination of

dischargeability has no bearing on whether the Judgment is, in fact, dischargeable.

For their last affirmative defense, Defendants allege that a finding of nondischargeabilty is

inappropriate because Plaintiff acted with unclean hands. Specifically, they allege: “Plaintiff has no interest

or need to collect money from defendants, but instead is attempting to eliminate competition and restrain

defendants from continuing to develop new and improved equipment and processes for application in the

pulp & [sic] paper industry.” (Def’s Answer at 5).



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Courts have recognized “unclean hands” as a defense to § 523 actions. See, e.g., OSB Manufacturing,

Inc. v. Hathaway, II (In re Hathaway, II), 364 B.R. 220 (Bankr. E.D. Va. 2007); Hooper v. Everett (In re

Everett), 364 B.R. 711 (Bankr. D. Az. 2007). However, “[i]t is fundamental to [the] operation of the doctrine

that the alleged misconduct by the [party] relate directly to the transaction concerning which the complaint is

made. [U]nclean hands does not constitute misconduct in the abstract, unrelated to the claim to which it is

asserted as a defense.” Seller Agency Council, Inc. v. Kennedy Center for Real Estate Educ., Inc. 621 F.3d

981, 986-87 (9th Cir. 2010) (internal quotation omitted) (citations omitted).

“Case law requires that in order to invoke the affirmative defense of unclean hands, theremust be a specific nexus between the alleged misconduct of the moving party and thetransaction of which he is complaining . . . . [While t]he moving party’s hands must be cleanwith respect to the specific transaction to which he seeks relief [, h]e is not required to cometo court with generally clean hands.”

Hathaway, 364 B.R. at 243-44.

Here, Plaintiff’s alleged misconduct arose after the transaction of which it is complaining and has no

specific nexus to that transaction. Accordingly, Defendants’ unclean hands defense has no merit.

Based on the foregoing, I grant Plaintiff’s motion for summary judgment as to dischargeability under

§ 523(a)(6) on the basis of collateral estoppel and having found that Plaintiff’s claim is nondischargeable

under § 523(a)(6), its claim for nondischargeability under § 523(a)(4) is moot.

EVIDENTIARY ISSUES

In opposition to Plaintiff’s motion, Defendants have proffered four declarations, one from each of the

Defendants, one from Sullivan, and one from Todd Hill, a former employee of Plaintiff. To summarize, they

basically profess Defendants’ innocence of wrongdoing, especially any intent to harm Plaintiff. Also

included are statements supporting the unclean hands affirmative defense. Because, as discussed above, I

find the Judgment preclusive on the § 523(a)(6) claim, consideration of the statements in the declarations as

to matters relating thereto is precluded, and as such, Plaintiff’s objections are sustained.



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CONCLUSION

Plaintiff’s motion for summary judgment on its claim for declaratory relief and its claim for a

determination of nondischargeabilty under § 523(a)(6) will be granted and judgment in Plaintiff’s favor will

be entered. Defendants’ cross motions will be denied.

Plaintiff’s counsel is to prepare the appropriate order and judgment, which should be lodged within

ten (10) days of entry of this opinion.

###

cc: David W. HercherS. Ward Greene



UNITED STATES BANKRUPTCY COURT

SOUTHERN DISTRICT OF ALABAMA

IN RE:

EUGENE SULLIVAN, CASE NO. 10-04384-WSS

Debtor. Chapter 7


d/b/a ANTHONY-ROSS COMPANY,

Plaintiff,

v. ADV. PROC. NO. 10-00094

EUGENE SULLIVAN,

Defendant.

ORDER ON CROSS MOTIONS FOR SUMMARY JUDGMENT

David W. Hercher, Counsel for the Plaintiff

Matthew C. McDonald, Counsel for the Plaintiff

S. Ward Greene, Counsel for the Defendant

Terrie S. Owens, Counsel for the Defendant

This matter is before the Court on the Plaintiff’s motion for summary judgment and the

Defendant’s motion for summary judgment. The Court has jurisdiction to hear this matter

pursuant to 28 U.S.C. §§ 157 and 1334 and the Order of Reference of the District Court. After

due consideration of the pleadings and arguments of counsel, the Court makes the following

findings of fact and conclusions of law:

FINDINGS OF FACT

The Plaintiff, Clyde Bergeman, Inc. d/b/a Anthony-Ross Company (“ARC”), is a

company in the business of modifying and improving its clients’ industrial boilers. The

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Case 10-00094 Doc 55 Filed 05/20/11 Entered 05/20/11 15:34:53 Desc Main Document Page 1 of 10


Defendant, Eugene Sullivan, is a former employee of ARC. On February 8, 2008, ARC filed an

action against Sullivan, two other former employees, Clay William Brion, III, and Daniel Richard

Higgins, and their company, Sullivan, Higgins & Brion, PPE LLC (“SHB”), in the U.S. District

Court in Oregon. The District Court granted the Defendants’ motion to arbitrate the claims

against them, and ARC filed an arbitration demand with the American Arbitration Association in

May 2008. Richard Spier of Portland, Oregon was appointed as arbitrator.

The main contention of ARC’s complaint was that Sullivan, Higgins and Brion formed

and operated SHB to compete for business with ARC, such as the Jambi bark boiler project in

Indonesia, while they were still employed with ARC. ARC also alleged that the three employees

used ARC’s confidential and proprietary information, specifically the Lotus Notes database and

the Master Proposal List, and kept copies of the information after they left ARC. Sullivan denied

the allegations, and asserted that ARC had previously disclosed or not properly protected the

alleged proprietary information. Further, Sullivan stated that SHB did not compete for business

with ARC because ARC was only interested in projects within the United States, and the Jambi

bark boiler project was not a project that ARC would have pursued. Finally, Sullivan maintained

that the members of SHB worked diligently for ARC during their employment and took no action

to harm ARC’s business.

ARC’s amended arbitration complaint contained the following claims for relief: (1) breach

of contract; (2) breach of fiduciary duty/duty of loyalty; (3) misappropriation of trade secrets-

Oregon Trade Secrets Act, ORS 646.461 et seq.; (4) Computer Fraud and Abuse Act, 18 U.S.C.

§1030; (5) injunctive relief; (6) unjust enrichment; (7) interference with contract; (8) interference

with prospective economic advantage; (9) aiding and abetting/acting in concert; and (10)

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racketeering. Sullivan and the defendants responded with several affirmative defenses and1

counterclaimed for attorney fees and breach of contract. After an eight-day evidentiary hearing

followed by post-arbitration briefs and hearings, Spier issued an Interim Memorandum Decision

(“Interim Decision) on March 15, 2010, and a Supplemental Memorandum of Decision

(“Supplemental Decision”) and an Arbitration Award on July 15, 2010.

In the Interim Decision, Spier found that ARC should recover from Sullivan and the other

respondents one half of the compensation and benefits that they received while competing with

ARC, plus interest. For Sullivan, the amount was ultimately determined to be $246,589.27. The2

awards were separate, not joint and several. Spier found that the respondents misappropriated

ARC’s trade secrets, the Lotus Notes database and the Master Proposal List. Interim Decision, p.

3. Sullivan admits retaining the Master list after leaving ARC. Respondent’s brief, p. 5. All

claims and defenses (including punitive damages) that were not expressly allowed were deemed to

be overruled. Interim Decision, p. 4.

Spier found that while the evidence showed that the respondents “actively discouraged

Claimant [ARC] from seeking [the Jambi project] while they were pursuing it for themselves

(while still employed)”, ARC failed to show that it would have profited from the Jambi project

and obtained other profitable projects based on the project’s success. Therefore, the arbitrator

found that ARC failed to meet its burden of proof on the lost profit damages, and awarded only a

return of the portion of the respondents’ wages. The arbitrator also found that Brion indicated in

The Defendants’ affirmative defenses included: (1) failure to state a claim; (2) waiver-1

trade secrets and confidential information; (3) equitable estoppel; (4) waiver-independent

business activities; (5) illegality; (6) not secret/in public domain; (7) independent development.

Arbitration Award, para. 5. 2

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an October 22, 2007 email that no one at ARC knew what Higgins, Sullivan and he were doing,

and that the group needed to “keep it that way.” Interim Decision, p 5. Spier indicates that this

desire to keep the respondents’ activities secret was joined by Sullivan. He also found that the

Master List and the Lotus Notes database were protected information. “It is clear under the

evidence that the Master Proposal List (Cl. Ex.177) contains protected information, even though

its genesis was a listing that Mr. Sullivan brought with him years before.” Interim Decision, p. 6.

In his supplemental memorandum, Spier found that ARC met its burden of proof for unauthorized

use of trade secrets under ORS 646.461(2)(b) only as to the Lotus Notes database and the Master

Proposal List. Supplemental Memorandum, p. 2.

The actual Arbitration Award found that ARC prevailed on its claims for breach of

contract (first claim); breach of fiduciary duty/duty of loyalty (second claim); misappropriation of

trade secrets (third claim); injunctive relief (fifth claim); unjust enrichment (sixth claim);

interference with contract (seventh claim); interference with prospective economic advantage

(eighth claim); and aiding and abetting/acting in concert (ninth claim). ARC also prevailed on all

of the respondents’ affirmative defenses and claims. Sullivan and the other respondents prevailed

on ARC’s claim under the Computer Fraud and Abuse Act (fourth claim); the racketeering claim

(tenth claim); and ARC’s request for punitive damages. The monetary relief was awarded under

ARC’s claims for Breach of Contract (First Claim), Breach of Fiduciary Duty/Duty of Loyalty

(Second Claim), Misappropriation of Trade Secrets (Third Claim), Unjust Enrichment (Sixth

Claim), Interference with Contract (Seventh Claim), and Interference with Prospective Economic

Advantage (Eight Claim). Arbitration award, para. 5. The respondents were also ordered to

return or destroy all original and copies in their possession of the Lotus Notes database and the

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Master Proposal List.

The District Court entered a judgment confirming the arbitration award on August 11,

2010. Sullivan filed the present chapter 7 proceeding on September 22, 2010. Sullivan and the

other respondents filed a petition to vacate or correct the arbitration award on October 7, 2010,

and a motion for relief from judgment on October 19, 2010 in the District Court. This Court lifted

the automatic stay to allow ARC to participate in the Oregon District Court proceeding by its

orders of October 29, 2010 and November 9, 2010.

CONCLUSIONS OF LAW

ARC filed this adversary proceeding seeking to have the Oregon District Court judgment

declared nondischargeable under 11 U.S.C. §523(a)(4) and (a)(6). The complaint also seeks a

declaratory judgment regarding the effect of Sullivan’s bankruptcy discharge on the injunction

imposed by the District Court order; however, ARC noted in its brief that Sullivan stipulated in

his response brief that the injunction is not a claim that may be discharged in bankruptcy.

Defendant’s Response Brief to Plaintiff’s Summary Judgment, p. 24. Both parties rely on the

collateral estoppel effect of the arbitration proceeding and the District Court judgment as the basis

for their respective motions for summary judgment. The doctrine of collateral estoppel does apply

in discharge exception actions under §523(a) if the parties can show that: (1) the issue in the3

previous action and the present action is identical; (2) the issue was actually litigated in the prior

action; (3) resolution of the issues was critical and necessary to the earlier judgment. The burden

of proof in the prior action must be at least by a preponderance of the evidence, as required for

Grogan v. Garner, 498 U.S. 279, 284 n. 11 (1991). 3

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§523(a) dischargeability actions. Grogan v. Garner, 498 U.S. 279, 291 (1991). 4

Under 11 U.S.C. §523(a)(4), a debtor cannot discharge a debt incurred by “fraud or

defalcation while acting in a fiduciary capacity, embezzlement, or larceny.” ARC maintains that

Sullivan’s actions amount to embezzlement under this section. The Ninth Circuit defines

“embezzlement” under §523(a)(4) as:

‘the fraudulent appropriation of property by a person to whom such property has

been entrusted or into whose hands it has lawfully come.’ Moore v. United States,

160 U.S. 268, 269 (1885). Embezzlement, thus, requires three elements: ‘(1)

property rightfully in the possession of the nonowner; (2) nonowner’s

appropriation of the property to a use other than which [it] was entrusted; and (3)

circumstances indicating fraud.’

In re Littleton, 942 F.2d 551, 555 (9 Cir. 1991) (citations omitted). th

The arbitrator’s interim and supplemental decisions found that Sullivan and the other

respondents misappropriated the Lotus Notes database and the Master Proposal List. Sullivan

had the Master Proposal List for use during his employment with ARC. The arbitrator found that

the Master Proposal list contained protected information, and that Sullivan misappropriated it for

use in his own business, SHB. In his reply to the Plaintiff’s response brief, Sullivan’s counsel

admits that “the arbitrator did find that the defendants used the plaintiff’s Lotus Notes database

and Master Proposal List without authorization. However, his conclusory finding was contrary to

the evidence which showed that the defendants did not use this material for their own purposes.”

Defendant’s reply to Plaintiff’s response brief, p. 5, n.1. Even though Sullivan disagrees with the

In its brief in support of its motion for summary judgment, p. 7, ARC acknowledges that4

it had the same preponderance of the evidence standard in both the arbitration proceeding and

this adversary. Sullivan acknowledges the preponderance standard in his response to the

summary judgment, p. 8, and relies on issue preclusion in support of his motion for summary

judgment. The parties appear to agree that the preponderance of the evidence standard was the

same for the arbitration proceeding and the present adversary proceeding.

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arbitrator’s ultimate findings, the arbitrator heard the evidence regarding Sullivan’s use of the

Master Proposal List, and found in favor of ARC that Sullivan misappropriated the list. Thus,

ARC has established the first two elements of embezzlement under §523(a)(4).

Sullivan maintains that ARC cannot rely on the arbitrator’s decision for proof of the final

element of embezzlement, “circumstances indicating fraud”, because fraud was not an element in

any of the plaintiff’s claims, and therefore was not presented to the arbitrator, and was not a

necessary and critical part of the arbitration award. The arbitration award granted relief to ARC

on its third claim for Misappropriation of Trade Secrets under ORS 646.461. Under the Oregon

Statute 646.461(2)(a), “misappropriation” means: (a) Acquisition of a trade secret of another by a

person who knows or has reason to know that the trade secret was acquired by improper means.”

In turn, the statute defines “improper means” as “theft, bribery, misrepresentation, breach or

inducement of a breach of a duty to maintain secrecy or espionage through electronic or other

means.” ORS 646.461(1) (emphasis added). The Oregon Statute put the issue of

misrepresentation before the arbitrator, and the issue was necessary and critical to the arbitrator’s

findings in the interim and supplemental decisions. The arbitrator found it “telling that Mr.

Sullivan discouraged Mr. Garton (Respondents’ ultimate superior within the company division)

from pursuing the Jambi park boiler opportunity, while Respondents’ actively and secretly sought

this business.” Interim decision, p. 4. Further, in an October 22, 2007 email, Sullivan’s business

partner Brion stated “Nobody at [Claimant] has any idea what we are doing and we need to keep it

that way.” Interim decision, p. 5. In determining circumstances of fraud under §523(a)(4),

“[i]ntent may properly be inferred from the totality of the circumstances and the conduct of the

person accused.” In re Ormsby, 591 F.3d 1199, 1206 (9 Cir. 2010) (citing Kaye v. Rose (In reth

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Rose), 934 F.2d 901, 904 (7 Cir. 1991). The arbitrator’s decision to grant relief to ARC underth

the misappropriation of trade secrets claim indicates that he did find misrepresentations by

Sullivan and the other respondents. Those same facts lead this Court to conclude that Sullivan

appropriated the Lotus Notes database and the Master Proposal List under circumstances of5

fraud. Therefore, the Court finds that ARC has established the elements for embezzlement under

§523(a)(4).

Sullivan asserts in his cross motion for summary judgment and in opposition to ARC’s

motion for summary judgment that ARC’s claims under §523(a)(4) and (a)(6) fail due to the

arbitrator’s findings that ARC did not prove damages related to lost profits or business

opportunity related to the Jambi project. Sullivan maintains that the monetary award is not related

to any harm suffered due to the misappropriation of trade secrets or interference with a corporate

opportunity. Looking to the interim decision, it is apparent that Spier found that the evidence

showed that Sullivan and the respondents were competing with their employer for business

opportunities, taking care to keep their actions secret, and misappropriating protected

information. He first noted that the respondents did not “dispute that they would have been

obligated to present a bark boiler opportunity for a North America customer [to ARC]. However,

to justify their secret effort to obtain the Jambi opportunity in Indonesia for themselves, while still

working for [ARC], cuts too fine a distinction.” Interim decision, p. 4. Spier continues that it was

“telling” that Sullivan discouraged his supervisor from pursuing the Jambi project while going

after the business himself. Having observed Sullivan’s demeanor at the hearing, Spier believed

The parties raised the issue of whether the Jambi project as a corporate opportunity was a5

property right protected under §523(a)(4). Having based its findings on the misappropriation of

the Lotus Notes database and the Master Proposal List, the Court makes no finding on this issue.

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that Sullivan would have been “persuasive and effective” in discouraging ARC from pursuing the

project even though his own company was trying to get the project. Interim decision, p. 4. Spier

concluded that it was likely that ARC would have pursued the Jambi project if Sullivan had

recommended it, and that it was likely that ARC would have gotten the project based on SHB’s

success. Interim decision, p. 4. The problem lay with proof that the project would have earned a

profit and led to other profitable projects; the arbitrator found that ARC failed to provide evidence

on these points. This finding does not mean that there was no damage, because the arbitrator

ultimately ruled for ARC on the misappropriation claim. Rather, he chose to measure ARC’s

damages by the respondents’ salaries during the period that they were competing with ARC.

Interim decision, p. 4. Paragraph 5 of the Arbitration Award makes it clear that the monetary

relief is awarded under ARC’s claims for breach of contract, breach of fiduciary duty,

misappropriation of trade secrets, unjust enrichment, interference with contract and interference

with prospective economic advantage. See In re Janssens, B.R. , 2010WL6501984

(Bankr. D. Md.), aff’d and remanded on other grounds In re Janssens, 2011WL 1642575 (D. Md.)

(bankruptcy court measured employer’s damages by employee’s salary when employer failed to

prove lost profit in an adversary to determine a debt nondischargeable under §523(a)(4) for breach

of fiduciary duty and embezzlement). As a result, the Court does not accept Sullivan’s argument

that ARC failed to prove damages related the misappropriation claim.

Based on the foregoing, the Court finds that ARC’s motion for summary judgment as to

dischargeability under §523(a)(4) is due to be granted on the basis of collateral estoppel, and

having found that ARC’s debt is nondischargeable under §523(a)(4), its claim for

nondischargeability under §523(a)(6) is moot. As stated above, Sullivan stipulated in his response

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brief that the injunction is not a claim that may be discharged in bankruptcy. Sullivan’s motion

for summary judgment is due to be denied. It is hereby

ORDERED that the Plaintiff, Clyde Bergeman, Inc. d/b/a Anthony-Ross Company,

motion for summary judgment is GRANTED pursuant to 11 U.S.C. §523(a)(4), and a separate

judgment shall be entered in the amount of TWO HUNDRED FORTY-SIX THOUSAND FIVE

HUNDRED EIGHTY-NINE AND 27/100 ($246,589.27) DOLLARS in favor of the Plaintiff and

against the Defendant, Eugene Sullivan; and it is further

ORDERED that the injunction in the District Court order is not a claim that may be

discharged in bankruptcy; and it is further

ORDERED that Eugene Sullivan’s motion for summary judgment is DENIED.

Dated: May 20, 2011

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memorandum opinion-1...arc’s motion for summary judgment and sullivan’s cross motion for summary...

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